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Systemic Exposures in the Casualty Market…and how to address them

September 2010

Grange Turner, Guy Carpenter & Company Ltd, London

Contact: +44 207 357 1424 grange.turner@guycarp.com

Insurance Practitioners Association Conference – Istanbul September 2010

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Agenda

1. Definitions of event and systemic exposures

2. Examples of clash and systemic exposures

3. Past clash and systemic losses

4. Systemic exposures in a recessionary environment

5. Modelling clash and systemic exposures

6. Methods of protecting against clash and systemic exposures

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1. Definitions of Event and Systemic exposuresWhat do we mean by “clash”, “event” and “systemic”?

Clash – a single loss, or series of losses, deriving from more than one original policy

Event – a loss scenario, usually definable in time and place, which may involve multiple policies

Systemic – exposures derived from a broad industry wide practice, or from a general social or economic trend

Note – these are working descriptions of the terms, not legal definitions.

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2. Examples of Clash and Systemic ExposuresWhat do we mean by an “event”?

Events are generally specific in time and place

General Liability – multiple producers involved in the same faulty product or project

Employers Liability – workers for multiple insureds injured / killed in the same explosion

Motor – multiple vehicles involved in the same accident/Catastrophe

Professional / Financial lines – multiple advisers involved in the same financial collapse (bankruptcy)

Event exposure to different classes of casualty business

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Systemic exposures generally have broader scope than events

General Liability – a similarly faulty manufacturing process leads to numerous similar losses

Employers Liability – a business practice common to a sector leads to a number of similar injury / disease claims

Motor – an increase in the number of accidents caused by unusual weather patterns

Professional / Financial lines – professional advisers from a number of firms following a similar pattern of practice

Systemic exposures to different classes of casualty business

2. Examples of Clash and Systemic ExposuresWhat do we mean by an “Systemic”?

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Natural Catastrophes

Earthquake Hurricane Virus outbreak

Natural Catastrophes

Earthquake Hurricane Virus outbreak

Man-made failures

Terrorist Attack Corporate collapse Infrastructure/ Project failure Major identity theft

Man-made failures

Terrorist Attack Corporate collapse Infrastructure/ Project failure Major identity theft

Business practices

Tax shelters Late Trading in US Mutual Funds Contingent Commission practices Product widely mis-sold

Business practices

Tax shelters Late Trading in US Mutual Funds Contingent Commission practices Product widely mis-sold

Economic malaise

Increase in corporate dissatisfaction House price slump ‘Credit Crunch’ / Recession

Economic malaise

Increase in corporate dissatisfaction House price slump ‘Credit Crunch’ / Recession

2. Examples of Clash and Systemic ExposuresEvent Categories

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3. Past Clash & Systemic LossesA historical perspective…..

Wide range of original types of loss…..

Asbestos – multiple claimants from multiple firms for disease related claims spread over many years

Enron – US corporate collapse which drew in multiple advisers, and other firms with a business link

World Trade Centre – terrorist attack resulting in numerous deaths and injuries (WCA claims) and suits against various professional advisers

Pension opt-outs – multiple investors were wrongly advised to leave their corporate pension schemes

Sub–Prime – numerous failed investment products derived from sub-prime lending practices in the US

Wembley Stadium – architects and building companies involved in late-running construction project

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4. Systemic Exposures in a Recessionary Environment

Events are generally specific in time and place

General Liability – Lack of investment in new plant / equipment – Reductions in the number of suppliers– Reduction in number of workers

Employers Liability – Cut-backs in a firm’s safety schedule– Fewer workers doing same workload– Lack of investment in new plant / equipment

Effects of a recessionary environment on different classes of casualty business

Recession brings increased tendency

to litigation and fraudulent claims

Recession brings increased tendency

to litigation and fraudulent claims

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4. Systemic Exposures in a Recessionary Environment

Motor – Injured parties making claims where previously would not have

done;– Staged accidents– Increased number of fraudulent claims

Professional / Financial lines – Increased tendency to sue professional advisers in event of

investment/business failure– Collapsing property values lead to increased claims against valuers

Effects of a recessionary environment on different classes of casualty business

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Other factors affecting systemic casualty exposures in the long term

Long-tail characteristics

Potential for changes in legal environment

Potential for changes in policy interpretation

Political/regulatory intervention

4. Systemic Exposures in a Recessionary Environment

How many Casualty Cat losses could have been predicted without hindsight?

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Guy Carpenter’s approach to modelling Casualty Clash involves the following;

1. Portfolio Exposure Analysis

Provide a catastrophe profile of your Casualty / Liability portfolio

Identify:– Which portfolio segments are most accumulative; facilitate price loading– Data capture that’s essential in casualty accumulation reporting– How casualty catastrophe losses could impact your portfolio

5. Modelling Clash and Systemic Exposures

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2. Realistic Disaster Scenarios

Customise a classic/systemic cat event set using a uniform network-based system

For each scenario, stochastically model the business relationship links – allowing for type of jurisdiction– providing a distribution of possible outcomes

Demonstrate to stakeholders / regulators that you have a transparent identification process of allocating risk capital to defined long-tail disaster scenarios– a vital part of ERM tool for Solvency II

5. Modelling Clash and Systemic Exposures

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Supply of goods and services to chemical / industrial gas mfg.

– All links included

– Wide range of industry groups

Large hub and spoke arrangement

– Centered industrial gas mfg. (325120), as expected

With two areas of interlinking

– One group centered on primary and fabricated metal product mfg.

– The other around construction, architects & engineers and machinery mfg.

5. Modelling Clash and Systemic ExposuresExample of Business Relationship LinksCase Study: Chemical/Industrial Gas Manufacturer

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Whole Account

Multiple Sectors

Available Coverage

Single Insured

Multiple losses on an ‘Any One

Claim’ form

Mono-Line

More than 1 insured

Same coverage

Non-Systemic

Several Ins’ds/policiesSingle event/ series loss

StandardSystemic

Multi Ins’ds/ Coverages

Event = similar behaviour

Broad Form Systemic

Even broader basis of

accumulation

Sole Judge Systemic

Reinsured is sole judge of

event

Difficulty of defining ‘Event’

Reinsurance capacity

PricingLight

More

Less

Heavy

Less

More

6. Protecting Against Clash and Systemic ExposuresReinsurance Options

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